Wednesday, March 07, 2012

BLOG 123

WHAT IS THE VALUE OF SOMETHING THAT CAN NEVER BE SOLD?

Value for tax purposes normally means market value. The generally accepted definition of market value, based on a succession of court cases, is the price that would be paid between a (hypothetical) willing seller and a (hypothetical) willing buyer on a sale in the (hypothetical) open market. It is for the valuer to judge what price would be acceptable to a willing seller, who the likely willing purchaser might be and the price that he might be prepared to pay, and how the non-existent-in-reality open market would function (although the courts have given some guidance on this). But what if there is a legal restriction on selling the item? The courts have said than an assumption must be made that it can be sold but that the purchaser would take it subject to the legal restriction on reselling it.

What if it would be a criminal offence to sell the item? As far as I am aware the UK courts have not yet had to grapple with this. Can there be a hypothetical willing seller at all? He would be a person who knows that if the sale comes to light, he will go to jail and in addition the entire sale proceeds will be confiscated under the Proceeds of Crime Act. Take for example a quantity of heroin. Who would buy it? In theory a major drug dealer, but could a willing seller find one and wouldn’t he be taking a huge risk that rather than pay anything the willing buyer might simply shoot him? So who is this hypothetical willing seller? And if he does indeed exist, wouldn’t he want so much money to compensate him for the risks he is taking that there would not be a willing buyer at such a price?

I have been musing on this dilemma after reading an article from Forbes magazine on the estate of the late Ileana Sonnabend. Ms Sonnabend was described by Forbes as the “legendary modern art dealer”. She has left her executors with a major headache. She owned a work of art called “Canyon” by Robert Rauschenberg. This is a collage. Unfortunately it incorporates a stuffed bald eagle. It is a criminal offence in America to sell a bald eagle under the Bald and Golden Eagle Protection Act 1940. Ms Sonnabend knew she could never sell Canyon”. That was OK; she didn’t want to sell it. She had to get a permit even to keep it. To do this Mr Rauschenberg had to sign an affidavit that the bald eagle had been stuffed before 1940. All that Ms Sonnabend was permitted to do with the artwork under her licence was to gift or lend it to a US art gallery. She could not even loan it to an overseas one, as it was illegal to take it outside the US.

Three separate art appraisers have told the executors that “Canyon” is valueless as all that the owner can do with it is gift it to a US art gallery. The IRS disagree. They say, apparently, that the executors should be able to find a reclusive Chinese billionaire who would buy the artwork on the black market and smuggle it out of the USA in order to hide it away. The executors say that they don’t want to go to jail so would not contemplate such a sale, even if the Chinese billionaire actually exists – and the IRS have not put forward anything to suggest that he does.

The upshot is that the IRS value the artwork at $65million. Ms Sonnabend did not even seek to avoid taxes. Her estate has paid $471million in estate taxes. However the executors think that a demand for an extra $29million for something that can never be sold to pay the tax is unreasonable. Rubbing salt in the wounds, the IRS is apparently also seeking a $11.7million penalty for “gross valuation misstatement” in accepting the unanimous view of the three separate professional valuers that the artwork had a nil value!

Could it happen here? I hope not, but don’t have much confidence that it can’t.